THE CONCEPT OF INSIDER TRADING
The corporate world is one of the most fascinating and advancing worlds in contemporary times. It carries away the minds and interests of a wide range of men who pursue the desire to foster in this world and make a large amount of fortune. But this corporate world is prone to certain complexities as well as illegal acts and ventures. With the expanding and fast growth of the global markets, there is development in all the sectors in the corporate world including that of the financial markets. This increase in trading activities has led to the development to another form of trading which is called Insider Trading.
This paper is an analysis of the concept of insider trading with all its history and evolution. It also throws light on the scope of the Securities Exchange Board of India which has set up a framework of regulations which can prove beneficial in curbing such practices or limiting its implementation.
Insider trading occurs when a corporate insider trades on information before it is disclosed to the general public.1 It is a term which can have legal as well as prohibited or restricted ambits. It is trading in the stock market a having the advantage to access the confidential and nonpublic information of a particular company. This practice can be made legal if the trading is done without any gains to neither the trader nor any loss to the company, while not taking any leverage of the non- public information, so disclosed. However, with the growing trends of this activity, it more or less falls into the negative zone. It necessarily deals with the breaching of the company’s regulations and thus is a fraudulent activity. The term implicitly means any person, who has an access to the unpublicized information, including ones which are price-sensitive, of the company. It is, therefore, merely leakage of confidential information by some person who is an insider and thus functions as a white – collar financial crime.
This debate is ongoing amongst various scholars, academicians, market regulators and players etc. about whether this practice can be considered legal or illegal which should be proven with proper justifications. The law professors and other financial economists opine that this type of trading is highly efficient for a company as it makes the market very operative and effective presuming that at some point or the other the information shall be out in the public. On the contrary, it becomes illegal as it loses the grounds of fidelity which an employee holds towards his employer or company. Further, the sharing of confidential information from the internal sources of the company, would lead to an unfair advantage to the trader and not the public at large, thereby the insider being at an advantageous financial position. Thus, only the privileged few are benefitted and the common investors have to suffer. Moreover, it unbridled insider trading respites the foreign investors from the capital markets.
As for the people who are called insiders include, the Directors, company officials, bankers, auditors, professional advisers, or any other party be it friends, relatives, etc who share a fiduciary relationship with that of the company. These insiders might pass on price – sensitive information including periodical financial results; amalgamations, mergers, or takeovers; intended declaration of dividends, significant policy changes, etc. which affects the prices of securities of the company.
The main features of insider trading thus include:
(1) The insider uses the non – public information for his own advantage either by avoiding losses or making profits.
(2) Insider trading puts the shareholders of the company at a disadvantageous position.
(3) The information so provided should be material.
(4) The information is used to the detriment of persons who do not have such information.
In India, with the fast-growing and development of financial markets, there has also been an increase in the trends of financial crimes analogous with the Indian markets. Insider trading is the one which is the most unbridled and rampant. There has been a rapid proliferation of this activity in the advancing securities markets which calls for a comprehensive regulation to control such acts. As a result, the Security Exchange Board of India was set up under the SEBI Act, 1992 as an administrative and regulatory body for the regulation of securities markets and for absolute supervision of the various departments under its ambit.
Section 11 (2) (g) of the Act, prevention of insider trading has been mentioned as one of its duties. Also, Section 12 – A of the Act restricts insider trading in securities of companies that
2 Chandravijay Shah, “Importunate Need to Check Insider Trading”, 19 Chartered Secretary 641 (1989). are listed in the stock exchanges by stating that “no person shall directly or indirectly: (a) engage in insider trading; or (b) deal in securities while in possession of material or non – public information or communicate such material or non – public information to any person, in a manner which is in contravention of the provisions of this Act or the Rule or the Regulations made thereunder.” The violation of this section leads to a civil penalty under Section 15 – G of the SEBI Act up to twenty- five crore or three times the amount of profits made out of insider trading, whichever is higher. Insider trading is also considered as a punishable offence under Section 25 of the Act with imprisonment for a term which may extend up to ten years, or with fine, which may extend to twenty-five crore rupees or with both.
SEBI, exercising its power, also framed the SEBI (Prohibition of Insider Trading) Regulations, 19924 which comprises of 4 Chapters and 3 Schedules consisting of 15 Regulations dealing with definitions used in the Regulations, prohibition on communicating or counselling by an insider, code of internal procedures and conduct, disclosure requirements, etc. Consequently, there was the drafting of the Prohibition of Insider Trading Regulations, 2015 with certain amendments. It comprised of 2 Schedules and 12 Sections. The chief characteristic of the regulations includes that all the listed companies must formulate and establish their own code of conduct and practices that could be followed for the safeguard of confidential information such that only fair disclosures of information could be made. Further, there has been a communication of UPSI being made an offence. Regulation 3 (3) of the regulation permits due diligence exercise (involving communication and sharing of UPSI regarding the merger and acquisition, transaction), before acquiring a listed company to decide if the target company is a good buy for the acquirer, the potential difficulties, liabilities and dangers involved in the acquisition, and price at which acquisition should have culminated.
However, despite these precautions and regulations taken by the specialised boards, there needs to be proper check and supervision of the threats posed by insider trading. There should be rightful awareness, training and education about the practice of insider trading and its ill effects and disintegrations are to be made into the knowledge of the general public. The information must thus be published in official journals and manuals and made available to the public. In order to make effective and efficient execution of the laws concerning insider (3 Chapter VA inserted by SEBI (Amendment) Act, 2002 w.e.f. 29th October, 2002. 4 Published in the Gazette of India, Extraordinary in Part III, Section 4 on 19th November, 1992.) trading, there needs to be cooperation at the grassroots level which begins in the companies. The companies must initially take actions and make self-regulatory proclamations to curb such practices. Further, the ambiguity in the laws needs to be checked and regulated. Thus, there should be proper judicial interpretations of such laws from the core in order to prevent such malpractices and make a sound base for the laws to get implemented. The legislature should also bring a change not by merely punishing the offenders but also by trying to anticipate such offences and nip the bud before it takes the shape.
This policy of insider trading has reached the international level and gained a high amount of significance worldwide as the domestic investors are boosted by that of the overseas regulators, thereby attracting the international investment community. In the international level, there have been major steps taken to curb the flow of such practices through lawmaking and regulatory actions.
SEBI has been performing its functions and striving hard to make this practice get reduced at its most. Also, the regulation of 2015 has been very effective as it has provided solutions to the problems and as such reduced the lacunas in a considerable manner. It also has helped to a great extent in restabilising the trust and loyalty of the investors.
Therefore, it can be concluded by stating that there does exist legal trading but its ambit overrules the limits as established and thus becomes an illegal act. Hence, there should also be in the corporation of ‘Insider Trading Policy’, wherein the companies shall have internal watchdogs who would monitor trade acts etc. which may thus help in preserving the rights of the shareholders in general.